An overview of shadow banking for journalists

This post is a transcript of a 12-minute talk RepoWatch editor Mary Fricker gave at the annual conference of Investigative Reporters & Editors in Boston June 15, 2012. Click here for accompanying handout and slides.

Shadow banking was the epicenter of the financial crisis. Almost no reporters understood it then and not many understand it now. But it is important because it probably provides half the credit in this country, and we’ve seen how dangerous it can be, so we need to know how to cover it going forward.

(Slide 1)

To give you an overview, I’m going to describe five steps to shadow banking, starting with the step you already know, about home loans. As I go along, I’ll suggest some local stories you can do as soon as you get back to work.

But first let’s ask: What is banking?

“Banking” is what a bank does when it borrows short term, like from a depositor, and lends long term, like for a 30-year mortgage. That’s dangerous, because if lots of the depositors suddenly get scared and demand their money back right now – this is called a run on the bank – the bank can’t repay them because its money is tied up in 30-year mortgages. Pretty soon the depositors can force the bank into bankruptcy.

That’s why we have FDIC insurance – so depositors will feel safe and not run on their banks.

Shadow bankers make loans, too, like traditional banks do. But shadow bankers don’t get their money from depositors. They borrow it from Wall Street.

For Wall Street lenders to feel safe, they usually lend for brief periods, often just overnight, and they take securities as collateral, mainly U.S. treasuries, bonds and stocks.

For shadow banking to work, there must be securities.

If Wall Street lenders lose faith in those securities and panic, they will demand their money back. That’s a lot like a run on a bank. If the shadow bank can’t pay back the money, right now, the Wall Street lenders can force it into bankruptcy.

That’s what happened in 2007 and 2008.

Little has changed. It could happen today. It’s happening in Europe right now.

If you cover any of the institutions on this list, you need to be watching their shadow banking. Most make financial reports that are public. In our handout are several examples.

These are mostly giant institutions. Many are both borrowers and lenders on the shadow banking market. Notice that traditional banks are also shadow bankers.

Much of the action in shadow banking is driven by the institutions that have big pools of cash they need to invest – like money market funds, insurance companies, hedge funds, pension plans, municipalities, even university endowments.

The purpose of shadow banking is to get those big pools of money down to the consumers and businesses who want to borrow it. I’ll show you how that’s done, in the five steps I’m going to tell you about.

Where do these companies get their big pools of money?

From you, and from your readers and viewers. At IRE we always say Follow the Money. In shadow banking, the money comes from you and your readers – in money market funds, pension plans and so on – and it goes to you and your readers, when you buy a house or a car, or get a student loan, for example.

With that as background, here are the five steps of shadow banking that I want to tell you about:

(Slide 3)

1. Make loans.2. Make securities (this is called securitization).3. Sell securities.4. Insure securities.5. Keep securities to lend and repo.

Along the way, we’ll talk about six kinds of shadow-banking transactions*:

These firms have mainly one purpose: Pool a bunch of loans together and make securities backed by the loans.

The securities are called asset-backed securities. In a more complicated form, they’re called collateralized debt obligations or CDOs. CDOs were responsible for many of the losses in the financial crisis. A lot of these securitizing firms are offshore, but you may have one near you. I do.

Step Three: Sell securities.

Where does the securitizing firm get the money to buy the loans from the lending company? Mainly it sells three things.

First and second, it sells the asset-backed securities and the CDOs.

What few of us understood until it was too late was that a lot of the buyers are big investment banks and traditional banks. So when the crisis hit, the big banks got stuck with the losses. If real investors had been buying these things, and lost money, who cares? Investors lose billions of dollars every day. But when banks lose billions of dollars, that’s a crisis.

If you cover banks, you need to be watching their financial statements for this.

The third way the securitizing firm gets money is this: It sells asset-backed commercial paper, which is a kind of IOU that it promises to buy back real soon, probably tomorrow. Many of the buyers of this asset-backed commercial paper were money market funds. In the crisis, they panicked, and they stopped buying it. That was called a run on the asset-backed commercial paper market, and it was a big reason for the financial crisis.

If you cover money market funds or personal finance, you need to be watching for this.

Step Four: Insure securities.

By this point in our steps, a lot of companies own asset-backed securities, CDOs, and asset-backed commercial paper. The securitizing firms own some, and they’ve sold a lot to others. Companies that own securities often buy derivatives called credit default swaps to protect themselves. Credit default swaps pay off when securities default. They’re like insurance. Companies that don’t own securities also buy credit default swaps, to speculate. Often the same company both buys and sells these swaps.

That’s one reason shadow banking is so interconnected. AIG was the most famous collapse caused in part by credit default swaps.

Step Five: Keep securities to lend and repo.

Now if you’re a big company or bank sitting there holding a lot of securities, probably including U.S. Treasuries but also asset-backed securities, CDOs and asset-backed commercial paper – you’re collecting the interest payments, and you’re protected by credit default swaps – your busy mind will start trying to think of ways to use those securities to make more money.

In shadow banking there are two main ways: Securities lending and repurchase or “repo” agreements.

In securities lending, companies briefly lend securities to other shadow bankers in exchange for cash, often just for overnight. AIG lost almost as much money on its securities lending as it did on its credit default swaps.

In a repurchase agreement, companies use securities as collateral to get a loan from another shadow banker, often just for overnight.

Now, at this step in shadow banking something interesting happens. In a securities lending transaction or in a repurchase transaction, somebody gives cash and gets back securities. Whoever gets the securities can re-use them as collateral to get their own repo loan. Then the second repo lender can re-use the same securities as collateral to get a repo loan for themselves. And so on.

(Slide 8)

This is a daisy chain where the same securities become collateral for several loans. It’s called rehypothecation. It’s another reason that shadow banking is so interconnected.

Although repo loans are often made just for overnight, usually that loan gets renewed day after day. But at any time the repo lender can call the loan.

Companies that borrow on the repurchase market are often in danger, because their lenders can disappear overnight. We should be watching financial statements for repurchase loans.

In the financial crisis, repo lenders freaked out over the quality of the home loans that were in the securities that they’d taken as collateral. They called their loans. Some economists have called this a Run on Repo. Bernanke and Geithner have said this was the thing that scared them the most during the financial crisis.

(Slide 9)

And that’s the basics of shadow banking. It can get a lot more complicated than that, but that’s the basics.

Since the crisis, shadow banking has fallen by more than one-fourth. This is an important reason our economy is struggling and it’s hard to get a loan. But shadow banking will be back.

That’s the end of my 10 minutes. But I’d like to take just two more minutes to tell you a little bit about repo, which is my specialty.

The repurchase market

Repos are the heart and soul of shadow banking, because they’re usually the cheapest way for big borrowers to get quick cash and the safest way for big lenders to lend.

Before the crisis, when shadow bankers bought asset-backed securities, CDOs, asset-backed commercial paper or credit default swaps, they often paid for them by getting a repo loan.

At the time of the crisis, at least $5 trillion was changing hands every day on the U.S. repurchase market. The main borrowers were companies like Countrywide, Bear Stearns and Lehman Brothers. The main lenders were, and still are, prime money market funds.

The Federal Reserve also has an interest in repos, because it has conducted its monetary policy transactions largely on the repurchase market, as do most central banks.

In the U.S., the securities that companies use as collateral for a repo loan are usually U.S. Treasuries and other government-backed securities. So the lender feels safe. But in the lead-up to the financial crisis, more and more of the collateral was asset-backed securities, CDOs, and asset-backed commercial paper.

Today the repo market is 40 percent smaller, in part because of the bad economy but also because there are not as many securities to use as collateral.

But bankers are out there right now looking for the next great repo collateral.

It better be safe. We need to be watching this. I hope you’ll start developing your sources right now.

*-These are securities for sale:1. Asset-backed securities – ABS2. Collateralized debt obligations – CDO-This is a borrowing of cash pretending to be a security for sale:3. Asset-backed commercial paper – ABCP-These are derivatives:4, Credit default swaps – CDS-This is a loan of securities:5. Securities lending – SecLend-This is a borrowing of cash pretending to be a sale of securities6. Repurchase agreement – Repo

Watching for the next bubble

From the editor

To understand the financial crisis of 2007-2008, and to prevent the next one, you must understand the repurchase market.

Consider This

The financial crisis was not caused by homeowners borrowing too much money. It was caused by giant financial institutions borrowing too much money, much of it from each other on the repurchase (repo) market. This matters, because we can't prevent the next crisis by fixing mortgages. We have to fix repos.

Quotes in the News

"Securities lending was partly responsible for the collapse of the large insurance company AIG when the market seized in September 2008." -- Economists Stephen G. Cecchetti and Kermit L. Schoenholtz, November 7, 2016.
*****
"Data describing bilateral repurchase agreements and securities lending were scant in the run up to the financial crisis, and they still are." -- Richard Berner, director, Office of Financial Research. October 27, 2016.
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"The crisis brought to light unique risks from the excessive use of short-term wholesale funding and repo agreements in particular .... Looking back, it is easy to see how certain behaviours and market practices necessitated government intervention with wholesale funding and collateral management reforms becoming a cornerstone of global regulators’ post-crisis efforts to reduce risk in the financial system." -- James Slater, global head of
securities finance at BNY Mellon Markets, Securities Lending Times. September 29, 2016.
*****
"I continue to believe that the post-crisis work to create a solid regime to protect financial stability cannot be deemed complete without a well-considered approach to regulating runnable funding." -- Federal Reserve Governor Daniel Tarullo. July 12, 2016.
*****
"After four years of efforts, regulators and the financial firms with the most at stake have failed to extinguish systemic risk in a crucial short-term lending market (the repurchase market} that greases the wheels of trading in U.S. Treasuries." -- Liz McCormick, Bloomberg. May 25, 2016.
*****
"If a bank goes bankrupt, derivatives and repo counterparties can just demand their money back as though the Bankruptcy Code doesn't exist." -- Matt Levine, BloombergView. May 4, 2016.
*****
"The Great Financial Crisis of 2007-2009 exposed the ineffectiveness of the relevant regulations in place at the time. Yet even now and despite the crisis, the rules remain inadequate and flawed." -- Anat R. Admati, professor Graduate School of Business, Stanford University, May 2016.
*****
"Data gaps persist in securities financing transactions, including repo and securities lending. The markets for these critical short-term funding instruments remain vulnerable to runs and asset fire sales. Yet comprehensive data on so-called bilateral repo and securities lending transactions are scant." -- Richard Berner, Director, Office of Financial Research. April 12, 2016.
*****
"As we look to the future of U.S. wholesale funding, we expect repo to serve as the circulatory system for broader financial markets who have become increasingly reliant on the smooth transfer of collateral." -- BNY Mellon and PwC Financial Services, "The Future of Wholesale Funding Markets," December 10, 2015.
*****
"Market interest rates are effectively determined in the collateral market, such as the repo, or repurchase market, where banks and other financial institutions exchange collateral (such as US Treasuries, mortgage securities, corporate debt, equities) for money." --Manmohan Singh, Financial Times, November 23, 2015.
*****
"In many ways, repos are the building blocks of financial markets. To mess with repo is to mess with the DNA of the markets." -- Andy Hill, International Capital Market Association. September 2015.
*****
"The market for repurchase agreements is an elemental building block of modern financial markets. Whether used as a money market instrument, a source of funding, a means of mobilising collateral, or the transmission mechanism for monetary policy, it is difficult to think of any financial instrument or derivative that is not impacted in one way or another by repo rates." -- Andy Hill, International Capital Market Association. September 2015.
*****
"Nearly half of the liabilities of broker-dealers consist of short-term wholesale funding (repo and securities lending), an amount that is nearly the same as it was during the crisis." -- Federal Reserve Governor Daniel Tarullo, Brookings Institution, November 17, 2015.
*****
"I also believe that the greatest risks to financial stability are the funding runs and asset fire sales associated with reliance on short-term wholesale funding ... If there is one lesson to be drawn from the financial crisis, it is that the rapid withdrawal of funding by short-term credit providers can lead to systemic problems as consequential as those associated with classic runs on traditional banks." -- Federal Reserve Governor Daniel Tarullo, Brookings Institution, November 17, 2015.
*****
"Given its vast scale and position at the center of the wholesale finance markets, repo is without doubt a critical activity. " -- Federal Reserve Governor Jerome Powell, Clearing House Annual Conference, November 17, 2015.
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"For the most part, the main problems during that (financial) crisis didn't involve banks that offered both commercial and investment services. Instead, the problems were primarily at traditional investment banks. Had Glass-Steagall remained in place, the financial crisis would almost surely have happened anyway." -- Mark Thoma, MoneyWatch, November 16, 2015.
*****
"Despite of its systemic importance, the repo market remains opaque to most market participants, including even the regulators. Because no official data on repos exists, questions as basic as the overall size of the market are difficult to answer." -- Grace Xing Hu, Jun Pan, Jiang Wang, Tri-Party Repo Pricing, August 2015.
*****
Financial panics are increasing in frequency. While they used to be driven by depositors lining up to get their money, nowadays, "the problem is that institutional creditors do the same thing in the repo market." -- John Maxfield, The Motley Fool, March 19, 2015.
*****
"The repo market, the largest short-term funding market ... still remains susceptible to asset fire sales and runs." -- Office of Financial Research, December 2014.
*****
Repo “is the most important plumbing of the financial system. If the industry cannot come up with a solution, there is some implicit suggestion the Fed would have to step in in a more direct way." -- Darrell Duffie, professor of finance at Stanford University, October 9, 2014.
*****
"Without repo, there is no leveraged positioning in financial markets; without leverage and the constant hypothecation there is nothing to maintain the stock market's exuberance." Repo markets provide "the glue that holds stock markets together." -- Tyler Durden, Zero Hedge, June 27, 2014.
*****
"The Repo market includes both the banking system and the shadow banking system, all in one place. It’s the overnight borrowing and lending market of the entire financial system." -- Scott E.D. Skyrm, May 21, 2014.
*****
"The potential for repo markets to act as a channel for financial instability in the event of (or perception of) financial distress at a large dealer remains .." -- Standard and Poor's, May 13, 2014.
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"Regulators and policymakers currently have no reliable, ongoing information on bilateral repo market activity." -- Financial Stability Oversight Council, May 7, 2014.
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"These runs were the primary engine of a financial crisis from which the United States and the global economy have yet to fully recover." -- Federal Reserve Chair Janet Yellen, April 15, 2014.
*****
"The banks remain dangerously interconnected and vulnerable to sudden runs because of their dependence on short-term, often overnight borrowing through the multitrillion-dollar repurchase agreement, or repo, market. -- Jennifer Taub, associate professor, Vermont Law School, April 4, 2014.
*****
"The 2007–2008 financial crisis was driven more by disruptions in the Securities Financing Transactions markets than by disruptions in the over-the-counter derivative markets." -- Federal Reserve Governor Daniel K. Tarullo, November 22, 2013.
*****
“The money market fund industry and the repo market is really the major fault line that goes right under Wall Street." -- Dennis Kelleher, CEO of Better Markets, Bankrate.com, July 24, 2013.
*****
Repo: "The silently beating heart of the market." -- Treasury Borrowing Advisory Committee, July 2013.
*****
Under Basel capital rules, "repos among financial institutions are treated as extremely low risk, even though excessive reliance on repo funding almost brought our system down. How dumb is that?" -- Sheila Bair, chair of the Systemic Risk Council and 2006-2011 Chair of the FDIC, June 9, 2013.
*****
"The trigger for the acute phase of the financial crisis was the rapid unwinding of large amounts of short-term wholesale funding that had been made available to highly leveraged and/or maturity-transforming financial firms." --Janet Yellen, Vice Chair Federal Reserve, June 2, 2013.
*****
"The repo market wasn’t just a part of the meltdown. It was the meltdown." --David Weidner, Wall Street Journal, May 29, 2013.
*****
"While regulated banks have faced far tighter oversight following the financial crisis, the shadow-banking market remains a source of potential instability. It is worth remembering that runs here, rather than traditional bank runs, were a cause of the crisis and led to seizures of credit markets." -- David Reilly, Wall Street Journal, February 19, 2013.
*****
"It is worth recalling that the trigger for the acute phase of the financial crisis was the rapid unwinding of large amounts of short-term funding that had been made available to firms not subject to consolidated prudential supervision." -- Daniel K. Tarullo, Federal Reserve Governor, February 14, 2013.
*****
"I don’t think we should be comfortable with a situation in which extensive maturity transformation continues to take place without the appropriate safeguards against runs and fire sales." -- William C. Dudley, President, Federal Reserve Bank of New York, February 1, 2013.
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"The global financial crisis that began in the United States in the summer of 2007 was triggered by a bank run, just like those of 1837, 1857, 1873, 1893, 1907, and 1933 ... and it has had devastating effects that continue today." -- Gary B Gorton, Yale University, "Misunderstanding Financial Crises," November 2012.
*****
"Currently, the drivers of systemic risk remain largely intact, and shadow banking appears poised to grow considerably, and dangerously, if it does not acquire the necessary market discipline to shape risk-taking activities." -- From "Understanding the Risks Inherent in Shadow Banking" by David Luttrell, Harvey Rosenblum, and Jackson Thies, Federal Reserve Bank of Dallas, November 2012.
*****
"The essence of shadow banking is to make loans, securitize them, sell the securities and insure them, and actively trade all the financial assets involved. In effect, traditional relationship banking is replaced by a collateralized market system with the repo market at its heart." --William R. White, Organisation for Economic Co-operation and Development, August 2012.
*****
"What was different about this crisis was that the institutional structure was different. It wasn't banks and depositors. It was broker-dealers and repo markets. It was money market funds and commercial paper ...," --Federal Reserve Chairman Ben Bernanke, March 27, 2012.
*****
"The Federal Reserve was forced to take extraordinary policy actions beginning in 2008 to counteract the effect of (tri-party repo) flaws and avert a collapse of confidence in this critical financing market. These structural weaknesses are unacceptable and must be eliminated." --Federal Reserve Bank of New York, February 15, 2012.
*****
"Despite the Dodd-Frank financial reform bill and its directive to address this issue, the problem of bank runs in the shadow system -- a key factor in the financial sector collapse -- has not yet been solved." --Mark Thoma, Professor of Economics, University of Oregon, February 13, 2012.
*****
"Repurchase agreements (repo) are the largest part of the 'shadow' banking system: a network of demand deposits that, despite its size, maturity, and general stability, remains vulnerable to investor panic." --Jeff Penney, senior advisor, McKinsey & Company, June 2011.
*****
"What happened in September 2008 was a kind of bank run. Creditors lost confidence in the ability of investment banks to redeem short-term loans, leading to a precipitous decline in lending in the repurchase agreements (repo) market." --Robert E. Lucas, Jr., Nancy L. Stokey, visiting scholars, Federal Reserve Bank of Minneapolis, May 2011.
*****
"The really interesting thing that happened in September 2008 was the worldwide panic in the banking system – financial institutions running on each other behind the scenes." –-David Warsh, economic journalist, Feb. 6, 2011.
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“As a scholar of the Great Depression, I honestly believe that September and October of 2008 was the worst financial crisis in global history, including the Great Depression …Out of maybe the 13 of the most important financial institutions in the United States, 12 were at risk of failure within a period of a week or two.” --Federal Reserve Chairman Ben Bernanke, Financial Crisis Inquiry Report, January 2011.
*****
"Since repo financing was the basis of most of the leveraged positions of the shadow banks, a large part of the run occurred in the repo market." --Viral V. Acharya and T. Sabri Öncü, professors, Stern School of Business, New York University, 2011.
*****
"Housing policies alone, however, would not have led to the near insolvency of many banks and to the credit-market freeze. The key to these effects was the excessive leverage that pervaded, and continues to pervade, the financial industry." --Anat R. Admati, Professor of Finance and Economics, Graduate School of Business, Stanford University. January 30, 2011.
*****
"Without some repo reform, we are at risk for another panic." --Gary B. Gorton, Professor of Management and Finance, Yale School of Management, November 16, 2010.
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"While it may be well and good for the Dodd-Frank Act to demand more oversight of mortgages and derivatives, that won’t stop the next run on repo if lenders panic over a different kind of collateral or hear a false rumor and panic for no reason at all." --About Repo, RepoWatch.
*****
The repurchase market is “the deepest, darkest least noticed part of the market’s plumbing.” --Bethany McLean and Joe Nocera, "All the Devils are Here," November 2010.
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“So far, all of this has gone largely unnoticed by the public, and that gives shadow banks the opportunity to make their case unopposed." --Mark Thoma, Professor of Economics, University of Oregon, September 28, 2010.
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"... the structure of the tri-party market is so closely entwined that it creates a contagion risk as bad as anything seen in the derivatives world." --Gillian Tett, U.S. managing editor, Financial Times, September 23, 2010.
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"The collapse in CDO valuations and the resulting inability to use CDOs as collateral for repo was a major, if not the major, cause of dealer illiquidity and insolvency which resulted in massive bailouts and backdoor subsidies." --Yves Smith, Naked Capitalism blog, August 20, 2010.
*****
"Repo has a flaw: It is vulnerable to panic, that is, 'depositors' may 'withdraw' their money at any time, forcing the system into massive deleveraging. We saw this over and over again with demand deposits in all of U.S. history prior to deposit insurance. This problem has not been addressed by the Dodd-Frank legislation. So, it could happen again. The next shock could be a sovereign default, a crash of some important market -- who knows what it might be?" --Gary B. Gorton, Professor of Management and Finance, Yale School of Management, August 14, 2010.
*****
"Leaving the repo market as it currently functions is not an alternative; if this market is not reformed and their participants not made to internatlize the liquidity risk, runs on the repo will occur in the future, potentially leading to systemic crises." --T. Sabri Öncü and Viral V. Acharya, professors, Stern School of Business, New York University, July 16, 2010.
*****
"It is disconcerting that that the Act is completely silent about how to reform one of the systemically most important corners of Wall Street: the repo market, whose size based on daily amount outstanding now surpasses the total GDP of China and Germany combined." --Viral V. Acharya and T. Sabri Öncü, professors, Stern School of Business, New York University, July 16, 2010.
*****
"... it is imperative for policymakers to assess whether shadow banks should have access to official backstops permanently, or be regulated out of existence." --Zoltan Pozsar, Tobias Adrian, Adam Ashcraft, Hayley Boesky, Federal Reserve Bank of New York, July 2010.
*****
“The potential for the tri-party repo market to cease functioning, with impacts to securities firms, money market mutual funds, major banks involved in payment and settlements globally, and even to the liquidity of the U.S. Treasury and Agency securities, has been cited by policy makers as a key concern behind aggressive interventions to contain the financial crisis.” --Task Force on Tri-Party Repo Infrastructure, May 17, 2010.
*****
"Banks should have learned by now it's dangerous to rely on overnight lending." --Allan Meltzer, Professor of Political Economy, Carnegie Mellon University, March 28, 2010.
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"This banking system ‐‐ repo based on securitization ‐‐ is a genuine banking system, as large as the traditional, regulated banking system. It is of critical importance to the economy." --Gary B. Gorton, Professor of Management and Finance, Yale School of Management, February 20, 2010.
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"I think we were primarily focused on the potential collapse of the short-term funding markets, particularly the overnight repo markets and tri-party repo markets, which would have created a contagion to many other firms."--Federal Reserve Chairman Ben Bernanke, November 17, 2009.
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"The best thing to do with the shattered Humpty-Dumpty of mortgage securitization would be to toss the broken pieces into the garbage." --Arnold Kling, Mercatus Center, George Mason University, September 28, 2009.
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"Given its size and importance, it is surprising that repo has such a low profile; for example, there is little discussion of it in the financial press." -- Moorad Choudhry, Head of Treasury, Europe Arab Bank plc, London, "The REPO Handbook," September 2009.
*****
“Our regulators allowed the proprietary trading departments at investment banks to become hedge funds in disguise, using the ‘repo’ system - one of the most extreme credit-granting systems ever devised. The amount of leverage was utterly awesome.” --Charles T. Munger, chairman Berkshire Hathaway Inc., Spring 2009.
*****
"Repo borrowing is now by far and away the most important form of short-term finance in modern financial markets.." -- Alistair Milne, Reader in Banking and Finance, City University, London, "The Fall of the House of Credit," March 2009.
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“This helps explain how a relatively small quantity of risky assets was able to undermine the confidence of investors and other market participants across a much broader range of assets and markets.” --Timothy Geithner, president, Federal Reserve Bank of New York, June 9, 2008.
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"Until recently, short-term repos had always been regarded as virtually risk-free instruments." Federal Reserve Board Chairman Ben Bernanke, May 13, 2008.
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"The repo market is as complex as it is crucial. It is built upon transactions that are highly interrelated. A collapse of one institution involved in repo transactions could start a chain reaction, putting at risk hundreds of billions of dollars and threatening the solvency of many additional institutions." --U.S. Senate report, 1983.
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"Because of this widespread use in very large amounts, it is important that the repo market be protected from unnecessary disruption." --Paul A. Volcker, Chairman, Federal Reserve Board, September 29, 1982,
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"With a repo loan, financial institutions could make or buy more home loans, to pool and produce more securities, to use as collateral for more repo loans. It was a neat, self-sustaining cycle of profitability and a serious growth machine." --About Repo, RepoWatch.
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"Surprisingly, financial institutions that said they used securitization to offload risk had actually done just the opposite. Instead, it was the repo lenders who had no skin in the game." --About Repo, RepoWatch.
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"Repo, then, was the main way that defaults in the housing market became a full blown credit panic. It was the key transmitter that carried the shock wave from the defaulting homeowner through the canyons of Wall Street to the American taxpayer." --About Repo, RepoWatch.
*****
"In the savings and loan days, we called it Cash for Trash. In those days, thrifts lent borrowers more money than they needed and required the borrower to use it to buy a troubled property on the thrift’s books. Today, banks make repo loans to borrowers who use the money to buy troubled mortgage securities on the banks’ books, and then they use the troubled securities to collateralize the original repo loan from the bank." --Inside Jobs, RepoWatch.
*****

New to Repo?

Start with "About Repo" in the header above.

What’s $1 trillion?

Spending at $1 a second, it would take you 31,710 years to spend $1 trillion. -- Repo is $7 trillion. (See "About RepoWatch.")

Breaking News

November 27, 2016: To get around regulations intended to limit risky lending, some Chinese shadow bankers are "buying stock" which the seller agrees to repurchase with interest on a certain date. This is an effort to make a (repo) loan appear to be an investment, wrote Gabriel Wildau for the Financial Times.
*****
November 18, 2016: The Federal Reserve has become the biggest player in the repurchase market, using the vast trove of securities it acquired during the financial crisis as collateral for loans, for example from money market funds, wrote Bradley Keoun at TheStreet. Critics say this crowds out private companies, distorts pricing, and could make the Fed vulnerable to a financial crisis, as Lehman Brothers was.
*****
November 16, 2016: As part of "The Minnneapolis Plan To End Too Big To Fail" by the Federal Reserve Bank of Minneapolis, shadow banks would have to pay a tax on borrowing of 2.2 percent if they're systemically important and 1.2 percent if they're not. The purpose of the tax is to discourage borrowers from migrating from banks to shadow banks.
*****
November 10, 2016: The introduction in 2012 of the supplementary leverage ratio as a way to strengthen banks in times of stress may instead cause broker-dealers affiliated with bank holding companies to use riskier securities as repo collateral and result in more nonbank dealers doing repurchase transactions, wrote researchers at the Office of Financial Research.
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November 9, 2016: Expect Republicans to undo major portions of financial regulation enacted in the last eight years, wrote Josh Galper at Securities Finance Monitor. "Hold on to your seats" and "the right balance needs to be found between global risk management and free-wheeling markets," he wrote.
*****
November 7, 2016: Wells Fargo has nearly tripled its repo lending since 2013 while other large banks with lower levels of capital have been cutting back, wrote reporter Bradley Keoun with TheStreet.

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